Bank of England Sets Stage for Rate Increase

By Jason Douglas Features Dow Jones Newswires

The Bank of England is expected lift its main interest rate on Thursday for the first time in more than a decade, in what would be a significant shift that two senior bank officials have suggested could be premature.

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A rate rise in Britain, alongside policy shifts by the U.S. Federal Reserve and the European Central Bank, would represent another notable waypoint on the global economy's path away from the extraordinary central-bank stimulus that has for years supported growth and financial markets.

The reservations of some officials and investors about a rate increase underscore the unusual challenges facing the U.K.'s central bank as it attempts to steer the British economy through the country's withdrawal from the European Union. The BOE has looked set to lift borrowing costs several times in the past four years, only to change course in response to unexpected economic setbacks.

The BOE cut its benchmark interest rate to a three-century low a year ago to cushion the U.K. economy from any shocks from voters' decision to exit from the bloc.

As the bank appears set to reverse that emergency cut, Brexit is complicating the task for policy makers.

The BOE said in September that a majority of officials on the nine-member Monetary Policy Committee expected to begin gently raising borrowing costs "in the coming months" if economic developments panned out broadly in line with their forecasts. The board's decisions are made on a majority vote.

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Since then, data has shown the economy grew at a steady if unspectacular pace of 1.6% in the third quarter, the inflation rate has risen further above the BOE's 2% target, and the unemployment rate has declined, reaching a four-decade low during the summer. That has solidified expectations the BOE will nudge up its benchmark interest rate to 0.5% from 0.25%.

BOE Gov. Mark Carney has said that higher borrowing costs will be needed over the next few years to keep a lid on inflation in the U.K., even if the economy grows only modestly. Minutes of officials' deliberations show that at their September meeting, a majority agreed, with two rate-setters, Ian McCafferty and Michael Saunders, arguing for an immediate increase.

Mr. Carney has sought to drive home the message that the central bank has limited means with which to support the U.K. economy as it reshapes its economic ties to the EU. He has said the bank must be mindful of its principal objective of keeping inflation in check while divorce negotiations between London and Brussels play out.

"Brexit represents a real shock about which monetary policy can do little," he said in a September speech.

Not everyone on the nine-member Monetary Policy Committee is convinced a rate rise is the right response, at least not now. Two officials -- Dave Ramsden and Jon Cunliffe, both deputy governors -- have voiced reservations about increasing borrowing costs while wage growth remains weak, saying they worry it might slow consumer spending, a key engine of growth.

Mr. Ramsden told lawmakers on Oct. 17 that he wasn't among the September majority anticipating a rate rise in the coming months, since he doesn't expect wages to pick up sharply. Mr. Cunliffe said in October that it remained "an open question" as to when interest rates should start to rise.

If either Mr. Cunliffe or Mr. Ramsden were to vote against Mr. Carney, it would be the first dissension by a senior official of the central bank since then-Chief Economist Spencer Dale voted for a rate rise in July 2011. There have been more recent minority votes, but they have come from the four members of the Monetary Policy Committee who don't work full-time for the bank.

Some investors also believe a rate rise would be risky. A survey of 80 of its clients by investment bank Nomura in October found that a little under half of investors thought the BOE would be making a mistake if it lifted borrowing costs this month, citing the risk of job losses in 2018 if Brexit talks falter and businesses cut costs.

Many economists doubt that a rise in the key interest rate Thursday would be quickly followed by a series of further moves, since they expect to see a slowdown in growth next year that should help cool inflation. If they are right, that would mirror the pattern seen when the Federal Reserve first raised its key interest rate in December 2015, and then waited 12 months before following it up.

Samuel Tombs, U.K. economist at Pantheon Macroeconomics, said his expectation is a the BOE will raise its benchmark interest rate on Thursday but is unlikely to lift it again soon. He predicts the economy will slow in 2018 as consumers retrench and a downturn in construction continues.

"We think after November the MPC could wait another year before hiking again," he said.

--Paul Hannon contributed to this article.

Write to Jason Douglas at jason.douglas@wsj.com

(END) Dow Jones Newswires

November 01, 2017 05:44 ET (09:44 GMT)